Might fiscal expansion be a free lunch? This is the question addressed in a thought-provoking paper “Fiscal Policy in a Depressed Economy”, March 2012, by Brad DeLong and Larry Summers, the most important conclusion of which is obvious, but largely ignored: the impact of fiscal expansion depends on the context. *

In normal times, with resources close to being fully utilised, the multiplier will end up very close to zero; in unusual times, such as the present, it could be large enough and the economic benefits of such expansion significant enough to pay for itself. In a liquidity trap fiscal retrenchment is penny wise, pound foolish. Indeed, relying on monetary policy alone is the foolish policy: if it worked, which it probably will not, it does so largely by expanding stretched private balance sheets even further.

As the authors note: “This paper examines the impact of fiscal policy in the context of a protracted period of high unemployment and output short of potential like that suffered by the United States and many other countries in recent years. We argue that, while the conventional wisdom rejecting discretionary fiscal policy is appropriate in normal times, discretionary fiscal policy where there is room to pursue it has a major role.”

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On this blog, I will open the discussion of a topic that I am thinking about. My aim will be to elicit views of readers. I will give my own response to the question I have raised, before posting the next issue for discussion.

Martin Wolf is chief economics commentator at the Financial Times, London. He was awarded the CBE (Commander of the British Empire) in 2000 “for services to financial journalism”. Mr Wolf is an honorary fellow of Nuffield College and of Corpus Christi College, Oxford. He is also an honorary professor at the University of Nottingham. He has been a forum fellow at the annual meeting of the World Economic Forum in Davos since 1999 and a member of its International Media Council since 2006.

Martin was made a Doctor of Letters, honoris causa, by Nottingham University in July 2006 and a Doctor of Science (Economics) of London University, honoris causa, by the London School of Economics in December 2006. He was joint winner of the 2009 award for columns in “giant newspapers” at the 15th annual Best in Business Journalism competition of The Society of American Business Editors and Writers and won the 32nd Ischia International Journalism Prize in 2012. Martin's most recent publications are Why Globalization Works and Fixing Global Finance.